In many manufacturing industries today, companies analyze many questions during the creation of a manufactured good. Among such questions, companies analyze how much money should be put into research and development, whether it is best to have a steep learning curve or a shallow learning curve, what is the trade off between recurring costs and nonrecurring costs, should money be spent in lowering the cost of the first unit manufactured (referred to as T#1 cost), how much should be invested in automation, and what are the optimum profits. Currently, there are no techniques to adequately answer such questions. Typically, it is left to upper management to gather data and make a judgment call on what it feels is the correct solution. In this regard, for many older companies, a lot of historical data exists that can aid in validating most of the decisions.
Of all the questions listed above, the question of what are the optimum profits is the driving force in business. Every company would like to maximize their profits. In this regard, profits are a balance between costs and revenue. Costs can be divided into two different types, nonrecurring and recurring. Nonrecurring costs are those that are one-time investments that help to start a manufacturing line. They include the costs of building factories, creating specialized tools (automation), research and development, etc. Recurring costs are those that continually (usually annually) need to be invested in to keep a manufacturing line open. They include the costs of materials, building maintenance, worker's salary, etc. The sum of both nonrecurring and recurring costs are typically referred to as the total cost of a program.
In manufacturing and many other fields, recurring costs are usually linked to a learning curve. The learning curve describes the level of improvement over time. Typically, the learning curve is used to describe the behavior of people who do a job. When trying to build a manufactured good for the first time, people will do a job at a given rate. As the same people continue to do the same job, the quality of their work gets better and they can do it at a faster rate. This improvement typically continues as more units are produced. The learning curve, then, is a way to capture this improvement and factor it into the recurring costs. In this regard, recurring costs per unit goes down as more units are produced. So a learning curve is only relevant when people are integral to a manufacturing line. In the case of a fully automated line, then, the learning curve is flat because there is no improvement over time.
Although it is known that recurring costs drop as time goes on, the level that recurring costs begins at is not generally known. However, there is a relationship between the nonrecurring costs and the initial level of the recurring costs. To understand why this relationship holds, consider the following simplified example.
As stated before, costs for specialized tools fall under nonrecurring costs. It is with these tools that people will build a unit of the good. People will be able to do their job faster if they have specialized tools to do the job. They may still be able do the job with less specialized tools, but it may take longer. The longer it takes, then, the more it costs to produce the first unit. It is the cost of the first unit that sets the initial level of the recurring costs. On the other hand, specialized tools cost money and, therefore, affect the nonrecurring costs. In this regard, a rough inverse relationship can be drawn from the cost of the first unit (recurring costs) and the nonrecurring costs. In general, as nonrecurring costs go up, the cost of the first unit goes down.
Since nonrecurring costs and recurring costs are related, it is desirable to find the balance between the two that will optimize profits and, thus, answer the question that is the driving force in business. It must be kept in mind, though, that recurring costs change depending on the learning curve used.